ENVOY COMMUNICATIONS GROUP INC.
CONSOLIDATED BALANCE SHEETS
(In Canadian dollars)
(Unaudited — Prepared by Management)
December 31 | September 30 | |||||||||
As at | 2002 | 2002 | ||||||||
Assets | ||||||||||
Current assets: | ||||||||||
Cash | $ | 4,899,158 | $ | 469,909 | ||||||
Restricted cash | 1,527,772 | 1,831,085 | ||||||||
Accounts receivable | 21,306,507 | 20,528,048 | ||||||||
Income taxes recoverable | 2,410,194 | 2,779,717 | ||||||||
Future income taxes | 855,000 | 855,000 | ||||||||
Prepaid expenses | 1,051,292 | 983,068 | ||||||||
32,049,923 | 27,446,827 | |||||||||
Capital assets | 7,185,335 | 7,836,728 | ||||||||
Goodwill | 11,497,811 | 11,314,283 | ||||||||
Other assets | 6,647 | 116,649 | ||||||||
Future income taxes | 2,779,427 | 2,459,228 | ||||||||
$ | 53,519,143 | $ | 49,173,715 | |||||||
Liabilities and Shareholders’ Equity | ||||||||||
Current liabilities: | ||||||||||
Accounts payable and accrued liabilities | $ | 24,437,473 | $ | 21,019,267 | ||||||
Deferred revenue | 1,309,017 | 1,475,671 | ||||||||
Amounts collected in excess of pass-through costs incurred | 3,638,272 | 2,104,522 | ||||||||
Bank credit facility and current portion of long-term debt (Note 1 and Note 2) | 10,581,974 | 10,589,114 | ||||||||
39,966,736 | 35,188,574 | |||||||||
Long-term debt (Note 1 and Note 2) | 3,434,114 | 3,413,697 | ||||||||
Long-term portion of restructuring costs | 458,713 | 792,275 | ||||||||
3,892,827 | 4,205,972 | |||||||||
Shareholders’ equity: | ||||||||||
Share capital | 54,339,390 | 54,339,390 | ||||||||
Convertible debentures (Note 2) | 1,720,859 | 1,720,859 | ||||||||
Stock based compensation | 23,268 | — | ||||||||
Retained earnings (deficit) | (48,231,177 | ) | (47,629,529 | ) | ||||||
Cumulative translation adjustment | 1,807,240 | 1,348,449 | ||||||||
9,659,580 | 9,779,169 | |||||||||
$ | 53,519,143 | $ | 49,173,715 | |||||||
See accompanying notes to consolidated financial statements.
ENVOY COMMUNICATIONS GROUP INC.
CONSOLIDATED STATEMENTS OF OPERATIONS AND RETAINED EARNINGS (DEFICIT)
(In Canadian dollars)
(Unaudited — Prepared by Management)
For the three months ended | December 31 | December 31 | |||||||
2002 | 2001 | ||||||||
Net revenue | $ | 11,901,443 | $ | 16,792,209 | |||||
Operating expenses: | |||||||||
Salaries and benefits | 8,120,448 | 12,887,485 | |||||||
General and administrative | 2,076,570 | 2,826,066 | |||||||
Occupancy costs | 1,137,706 | 1,330,511 | |||||||
Stock based compensation | 23,268 | — | |||||||
11,357,992 | 17,044,062 | ||||||||
Earnings (loss) before depreciation, amortization of intangible asset, interest expense, restructuring costs, income taxes, and goodwill amortization | 543,451 | (251,853 | ) | ||||||
Depreciation | 569,153 | 746,942 | |||||||
Amortization of intangible asset | 6,049 | — | |||||||
Interest expense (Note 2) | 692,459 | 190,564 | |||||||
Loss before restructuring costs, income taxes, and goodwill amortization | (724,210 | ) | (1,189,359 | ) | |||||
Restructuring costs | — | 386,000 | |||||||
Income tax recovery | (122,562 | ) | (540,792 | ) | |||||
Net loss, before goodwill amortization | (601,648 | ) | (1,034,567 | ) | |||||
Goodwill amortization, net of income taxes of nil (2001 $6,000) | — | 795,413 | |||||||
Net loss | $ | (601,648 | ) | $ | (1,829,980 | ) | |||
Retained earnings (deficit), beginning of period | (47,629,529 | ) | 5,603,200 | ||||||
Retained earnings (deficit), end of period | $ | (48,231,177 | ) | $ | 3,773,220 | ||||
Net loss per share — basic | $ | (0.03 | ) | $ | (0.09 | ) | |||
Net loss per share — fully diluted | (0.03 | ) | (0.09 | ) | |||||
Net loss per share before goodwill amortization — basic | (0.03 | ) | (0.05 | ) | |||||
Net loss per share before goodwill amortization — fully diluted | (0.03 | ) | (0.05 | ) | |||||
Weighted average number of common shares outstanding | 21,258,693 | 20,902,557 |
See accompanying notes to consolidated financial statements.
ENVOY COMMUNICATIONS GROUP INC.
CONSOLIDATED STATEMENTS OF CASH FLOW
(In Canadian dollars)
(Unaudited-Prepared by Management)
For the three months ended | December 31 | December 31 | ||||||
2002 | 2001 | |||||||
Cash flows from operating activities: | ||||||||
Net loss | $ | (601,648 | ) | $ | (1,829,980 | ) | ||
Items not involving cash: | ||||||||
Future income tax recovery | (320,199 | ) | (683,689 | ) | ||||
Depreciation | 569,153 | 746,942 | ||||||
Goodwill amortization | 6,049 | 801,413 | ||||||
Amortization of deferred financing charges | — | 39,672 | ||||||
Convertible debentures accretion | 179,489 | — | ||||||
Other non-cash interest | 16,619 | — | ||||||
Stock based compensation | 23,268 | — | ||||||
(127,269 | ) | (925,642 | ) | |||||
Net changes in non-cash working capital balances: | ||||||||
Restricted cash | 303,313 | (529,844 | ) | |||||
Accounts receivable | (778,459 | ) | 6,306,575 | |||||
Prepaid expenses | (68,224 | ) | (260,190 | ) | ||||
Accounts payable and accrued liabilities | 3,418,206 | (15,886,510 | ) | |||||
Income taxes recoverable | 369,523 | (82,873 | ) | |||||
Deferred revenue | (166,654 | ) | 363,242 | |||||
Amounts collected in excess of pass-through costs incurred | 1,533,750 | (1,003,518 | ) | |||||
Long-term restructuring costs | (333,562 | ) | — | |||||
Other | 103,953 | (45,110 | ) | |||||
Net cash provided by (used in) operating activities | 4,254,577 | (12,063,871 | ) | |||||
Cash flows from financing activities: | ||||||||
Long-term debt borrowings | 446,048 | 1,987,641 | ||||||
Long-term debt repayments | (432,771 | ) | (1,518,228 | ) | ||||
Redemption of common shares | — | (628,083 | ) | |||||
Other | — | (43,304 | ) | |||||
Net cash provided by (used in) financing activities | 13,277 | (201,974 | ) | |||||
Cash flows from investing activities: | ||||||||
Acquisition of subsidiaries | — | 234,622 | ||||||
Purchase of capital assets | (93,866 | ) | (546,329 | ) | ||||
Proceeds on sale of capital assets | 176,106 | — | ||||||
Net cash provided by (used in) investing activities | 82,240 | (311,707 | ) | |||||
Change in cash balance due to foreign exchange | 79,155 | 76,556 | ||||||
(Decrease)/Increase in cash | 4,429,249 | (12,500,995 | ) | |||||
Cash, beginning of period | 469,909 | 21,781,809 | ||||||
Cash, end of period | $ | 4,899,158 | $ | 9,280,814 | ||||
Cash flow from operations per share: | ||||||||
Basic | $ | (0.01 | ) | $ | (0.04 | ) | ||
Fully diluted | (0.01 | ) | (0.04 | ) | ||||
Supplemental cash flow information: | ||||||||
Interest paid | $ | 390,759 | $ | 140,744 | ||||
Income taxes paid | 14,000 | 266,975 | ||||||
Supplemental disclosure of non-cash transactions: | ||||||||
Shares issued for non-cash consideration | — | — | ||||||
1. Basis of Presentation
(a) These consolidated financial statements have been prepared on the going concern basis, which assumes the Company will continue its operations in the foreseeable future and will be able to realize its assets and satisfy its liabilities in the normal course of business. Certain conditions exist and events have occurred, as further described below that provide uncertainty regarding the Company’s ability to continue as a going concern, with its existing operations.
During fiscal 2002, the Company entered into a Forbearance Agreement with the lenders, which requires the Company to make monthly principal payments from December 31, 2002 through to March 31, 2003 and repay the balance of the loan by April 30, 2003. Consequently the loan is classified as a current liability and the working capital shortfall is approximately $7.9 million as at December 31, 2002.
The Company’s ability to repay its bank borrowings is dependent upon its ability to generate positive cash flow from operations, secure additional debt or equity financing under private placements, refinance or renegotiate its debt facility and/or sell all of, or a part of, its operating businesses. There can be no assurances that the Company will be successful in doing so. In the event the Company is unable to repay or refinance the bank loans from the above sources then the application of the going concern principle for financial statement reporting purposes may no longer be appropriate. These consolidated financial statements do not include any adjustments related to the recoverability and classification of recorded asset amounts or the amounts and classification of liabilities that may be necessary.
(b) Certain 2002 comparative figures have been reclassified to conform to the financial statement presentation adopted in the 2002 audited year-end financial statements.
Note 2A. Bank Credit Facility and Other Debt
2002 | 2001 | |||||||
Bank credit facility (a) | $ | 9,646,988 | $ | 7,841,239 | ||||
Promissory note, 8% per annum, repayable in five monthly installments commencing June 30, 2002 (b) | — | 2,689,781 | ||||||
Promissory note, 15% per annum, repayable on June 30, 2003 (c) | 500,000 | — | ||||||
Current portion of loans payable to landlords and capital leases | 434,986 | 434,069 | ||||||
$ | 10,581,974 | $ | 10,965,089 | |||||
Long-term portion of loans payable to landlords and capital leases | 1,161,567 | 963,076 | ||||||
Convertible Debentures (d) | 2,272,547 | — | ||||||
Total long-term debt | $ | 3,434,114 | $ | 963,076 | ||||
(a) Bank credit facility
During fiscal 2002 the Company entered into a Forebearance Agreement with the lenders which requires the Company to make monthly principal repayments from December 31, 2002 through March 31, 2003, and repay the balance of the loan by April 30, 2003. Consequently the loan is classified as a current liability and the working capital shortfall is approximately $7.9 million as at December 31, 2002.
(b) Promissory Note
During the third quarter of fiscal 2002 the Company negotiated new repayment terms for the Promissory Note due June 30, 2002. The Promissory Note is to be repaid in five monthly installments commencing July 1, 2002 with interest on the principal balance charged at 8%.
(c) Promissory Note
On December 11, 2002 the Company borrowed $500,000 with an interest rate of 15% per annum payable monthly. The loan is repayable on June 30, 2003 and the funds have been used for general corporate purposes.
Note 2A. Bank Credit Facility and Other Debt cont’d.
(d) Convertible debentures:
On April 29, 2002, the Company issued $1,800,000 in 10% convertible debentures which mature on April 29, 2007. The debentures are convertible until the maturity date into 2,500,000 units of the Company at a conversion price of $0.72 per unit. Each unit consists of one common share in the capital of the Company and one purchase warrant of the Company. Each purchase warrant entitles the holder to purchase one common share (2.5 million common shares in aggregate) within the earlier of (a) 12 months of the date of conversion of the debenture, and (b) the maturity date at a price of $0.90 per common share. Holders also have the right to require the Company to purchase all or a portion of their debentures on or after April 29, 2004 at the issue price plus accrued and unpaid interest. In addition, upon a change in control occurring on or before April 29, 2004, the Company will be required to offer to purchase the debentures at a purchase price equal to 101% of the issue price plus accrued and unpaid interest to the repurchase date. The debentures are secured by a charge over the Company’s assets and undertakings, which charge will be subject only to security interests in favour of the Company’s bankers, equipment leases and non-consensual liens. The net proceeds from the sale of the debentures were used for general corporate purposes.
The debentures are bifurcated into a debt component, representing a yield to maturity of 25.4% per annum over the five-year life, and an equity component with proceeds allocated as $1,017,770 to long-term debt and $782,230 to shareholders’ equity. That portion of offering expenses related to the debt component, being $60,587 has been recorded as deferred financing fees which are classified in prepaid expenses, and the remaining $46,565 applied to reduce the equity component.
The principal amount of the debentures will increase as interest is compounded using an effective interest rate method over two years, being the earliest date at which they are redeemable at the option of the holder.
On September 12, 2002, the Company issued $2,000,000 in 10% convertible debentures which mature on September 12, 2007. The debentures are convertible until the maturity date into 5,882,353 units of the Company at a conversion price of $0.34 per unit. Each unit consists of one common share in the capital of the Company and one purchase warrant of the Company. Each purchase warrant entitles the holder to purchase one common share (5,882,353 common shares in aggregate) within the earlier of (a) twelve months of the date of conversion of the debenture, and (b) the maturity date at a price of $0.34 per common share. Holders also have the right to require the Company to purchase all or a portion of their debentures on or after September 12, 2004 at the issue price plus accrued and unpaid interest. In addition, upon a change in control occurring on or before September 12, 2004, the Company will be required to offer to purchase the debentures at a purchase price equal to 101% of the issue price plus accrued and unpaid interest to the repurchase date. The debentures are secured by a charge over the Company’s assets and undertakings, which charge will be subject only to security interests in favour of the Company’s bankers, equipment leases and non-consensual liens. The net proceeds from the sale of the debentures were used for general corporate purposes.
The debentures are bifurcated into a debt component, representing a yield to maturity of 31.5% per annum over the five-year life, and an equity component with proceeds allocated as $931,858 to long-term debt and $1,068,142 to shareholders’ equity. That portion of the offering expenses related to the debt component, being $72,365, has been recorded as deferred financing fees which are classified in prepaid expenses, and the remaining $82,948 applied to reduce the equity component.
The principal amount of the debentures will increase as interest is compounded using an effective interest rate method over two years, being the earliest date at which they are redeemable at the option of the holder.
As at December 31, 2002, the aggregate debt component carrying values of all of the Company’s convertible debentures is $2,272,547. Principal repayments, based on scheduled maturity dates, is $3,800,000 in 2007. However, this date may be accelerated to 2004, at the option of the holders of the debentures.
Note 2B. Interest expense
Interest expense for the three months ending December 31, comprised of the following:
2002 | 2001 | |||||||
Cash interest paid on credit facility, landlord loans and capital leases | 397,925 | $ | 109,850 | |||||
Accrued interest on debentures | 38,333 | — | ||||||
Interest computed on convertible debentures and promissory note | 187,062 | 43,304 | ||||||
Financing fee charges on credit facility | 69,138 | 37,410 | ||||||
$ | 692,459 | $ | 190,564 | |||||
3. Segmented Information
The Company provides marketing and international consumer and retail branding services. While the Company has subsidiaries in Canada, the United States, the United Kingdom and Continental Europe, it operates as a global business and has no distinct reportable business segments
The tables below set out the following information:
By Customer Location | By Geographic Area | |||||||||||
December 31, 2002 | Net | Capital | Goodwill | |||||||||
Revenue | Assets | |||||||||||
Canada | $ | 1,744,699 | $ | 4,860,282 | $ | 3,082,256 | ||||||
United States | 5,724,979 | 233,664 | 0 | |||||||||
United Kingdom and Continental Europe | 4,431,765 | 2,091,389 | 8,415,555 | |||||||||
$ | 11,901,443 | $ | 7,185,335 | $ | 11,497,811 | |||||||
December 31, 2001 Canada | $ | 5,215,866 | $ | 8,181,913 | $ | 21,509,586 | ||||||
United States | 7,760,326 | 1,251,848 | 19,898,249 | |||||||||
United Kingdom and Continental Europe | 3,644,044 | 1,901,692 | 7,976,816 | |||||||||
$ | 16,620,236 | $ | 11,335,453 | $ | 49,384,651 | |||||||
The Company’s external net revenue by type of service is as follows:
December 31 | 2002 | 2001 | |||||||
Net Revenue: | |||||||||
Marketing | $ | 3,549,753 | $ | 3,970,835 | |||||
Consumer and retail branding | 8,059,835 | 10,099,772 | |||||||
Technology | 291,854 | 2,721,602 | |||||||
$ | 11,901,443 | $ | 16,792,209 | ||||||